Crowdfunding students

Start me up

Helping youngsters to sell stakes in their future

WHEN Matthew Kulp graduated from the Rhode Island School of Design last year, he became part of an intriguing financial experiment. To help pay back student loans and fund a new design company, Mr Kulp raised $38,500 via Upstart, an American firm that helps youngsters, or “Upstarts”, find wealthy investors willing to give them hard cash in return for a stake in their future earnings. This novel application of crowdfunding promises to be both popular and controversial.

Upstart, which recently raised almost $6m from venture funds and Silicon Valley types, is not the only outfit promoting equity-like investments in young folk. Pave, another American start-up, has developed a similar service. CareerConcept, a German firm, helps students raise money for their studies and Lumni, which focuses on low-income students in countries such as Mexico, Chile and America, has already helped almost 2,000 youngsters raise cash from individuals and institutions.

The notion of “human-capital contracts”—or “social financial agreements”, as Oren Bass, a co-founder of Pave, prefers to call them—may seem creepy. To many, it sounds like indentured servitude. But the notion of acquiring a stake in someone’s future earnings is not unprecedented. In professional poker, for instance, players often raise money from investors who then pocket a chunk of any winnings.

Pave and Upstart have developed offerings that are a mix of LinkedIn, a social network for businesspeople, and Kickstarter, a popular crowdfunding site that lets folk invest in new products. Candidates post gushing profiles of themselves and describe what they intend to do with the money they are after. Potential investors, who also post profiles, offer cash to individuals who catch their eye.

If they invest, the backers receive a percentage of the person’s pre-tax income over a number of years. Pave and Upstart allow youngsters to choose the percentage of their income to share with investors. In return, the matchmakers pocket a sliver of the money raised, as well as a management fee from investors. Pave lets its “prospects” share up to 10% of their future earnings. Upstarts can offer up to 7% of their income. Upstart also caps total payback at five times the amount raised, so that if someone creates the next Google they don’t have to hand over Croesus-like sums of money to their investors.

Both businesses are still in their infancy. Dave Girouard, the boss of Upstart, says that more than 50 people have raised a total of $1.4m using its platform. But they are confident they can grow fast, for several reasons. One is that, unlike interest payments on traditional loans, repayments fall if a person’s earnings decline. Another is that young graduates who dream of launching a business or writing the Great American Novel can use the cash to pay off their student debts without having to take a mind-numbing corporate job.

A third attraction is that investors have an incentive to mentor people they back—although the sites do not make this easy to do online yet. Shanaz Chowdhery, who has used Upstart, says one of her backers even sent her a free subscription to study materials she needs to get into law school. “The social benefits of this approach to raising money are 50% of the equation,” says Sal Lahoud, another Pave founder.

Not everyone is impressed. Jonathan Frutkin, a lawyer in Arizona who has studied crowdfunding, worries that young people lack the nous to make wise financial decisions. “The penalty for being younger, more desperate for money and less experienced is that the average prospect is going to get a bum deal,” he wrote in an April blog post about Pave and Upstart.

Yet both Mr Kulp and Ms Chowdhery have clearly thought carefully about the trade-offs involved. Ms Chowdhery even built a spreadsheet to model her likely future earnings under different scenarios before deciding to choose crowdfunding rather than a bank loan. As Pave and Upstart get bigger, they may scoop up less discerning customers. For now, the young people using them deserve more credit than Mr Frutkin is willing to give them.